The Role of Domestic and Foreign Investors in a Simple Model of Speculative Attacks

Cees Diks and Dennis Botman

No 2005/205, IMF Working Papers from International Monetary Fund

Abstract: We introduce local and foreign investors in a simple model of speculative attacks. Local investors have less tolerance for overvaluation of the fixed exchange rate because they tend to incur lower costs when taking a short position and possess better information, and because of moral hazard created by discriminatory government guarantees. On the other hand, the prospect of higher taxation after a balance of payments crisis deters speculation by locals compared to foreign investors. Finally, the lower the degree of exchange rate pass-through, the more likely domestic investors are tp take the lead during capital flight.

Keywords: WP; exchange rate; short position (search for similar items in EconPapers)
Pages: 24
Date: 2005-10-01
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